|Summary: The global push to reduce carbon emissions, at least in some countries, put coal as an energy source on the backburner. But the implosion of Europe’s carbon emissions program, and a rise in the gas price, has rekindled demand for coal.|
|Key take-out: Forecasts about future energy supply and demand are proving to be incorrect. With the coal price currently trading below $US90, Australian coal miners can expect a demand rebound.|
|Key beneficiaries: General investors. Category: Commodities.|
Currencies are not the only asset at war. Energy too is engaged in a race to the bottom, which is producing unexpected results including the restoration of coal as the world’s preferred low-cost fuel for producing electricity.
It’s too early to tip coal stocks as a buy, mainly because there is the potential for a fresh round of government interference in the market. But demand for coal is rising in Europe and the US, and it remains strong in Asia.
Missing, so far, from a complex equation triggered partly by the failure of Europe’s carbon emissions system, is a meaningful rise in the price of thermal coal, the low-grade material used by power generators.
But what the demand picture does show is that some low-cost coal producers have been oversold and that major coal producers, including Rio Tinto, Xstrata and BHP Billiton, should see a profit recovery from their hard-hit energy operations sooner rather than later.
Even massively discounted pure coal plays, such as Whitehaven Coal, could rebound once corporate uncertainties are cleared away.
While the message for investors is not a clear buy signal, it is a reminder that forecasts about future energy supply and demand are proving to be incorrect.
The biggest failure is the Peak Oil theory – a popular belief of a few years ago that predicted a time when liquid fuel supplies would dry up. Not only has this not happened, but the supply of liquid fuels (especially natural gas and associated liquids from shale) is rising, especially in the US, with many countries rushing to join the shale revolution.
The second major failure has been European attempts to control emissions of carbon dioxide from burning coal. While Australia is determined to try and follow Europe in pricing coal out of its energy equation, the rest of the world is not.
Boiled down, the energy war is all about “economy vs environment”, with regions that once championed anti-coal measures forced to join the move back to coal. This is mainly because it’s an abundant energy source, and is cheap when compared with environmentally-friendly energy sources such as wind and solar.
The European experience is the best example of what’s happening, and a pointer to what might happen in Australia because of plans to link the local carbon emissions price to that of Europe. The coal price has collapsed there, thanks to a combination of recession and an excess supply of carbon emission certificates.
Five years ago, a certificate to emit one tonne of carbon dioxide (with coal the major producer of that gas) cost €35 and acted as a major disincentive to investing in coal-fired power stations.
Last week, the price of a certificate was around €3, close to a record low and a price which incorporates a 35% fall on a single day, April 16. On that day, the European Parliament voted down a plan to temporarily withdraw 900 million carbon emission certificates, partly because of concern that such a move would force up the price of electricity and prolong the regional recession – a prime case of economy vs environment.
One result of this botched government policy is that big energy producers were encouraged to invest heavily in environmentally-friendly power sources, only to find that they are now in financial trouble because their wind, solar and gas power cannot compete with coal, because carbon emission permits are cheap.
Last month Reuters reported that power generators were losing almost €14 per megawatt hour from electricity produced using gas, but making a profit of €10 per megawatt hour from burning hard coal and €20 per megawatt hour from burning the cheapest and most polluting form of coal, lignite (or brown coal).
Germany, the renewable energy leader in Europe, has been forced to turn increasingly to coal to achieve power-system reliability, mining 5% more coal in 2012 than in the 2011. The biggest electricity generator, RWE, has started production from a big new lignite-fuelled power plant near Cologne.
Australia's coal outlook
Australia is yet to feel the effects of Europe’s collapsing carbon emissions system because our system is still operating at a fixed price of $23 a tonne, which is set to rise over the next two years before becoming a freely-traded system in 2015.
But, without more government tinkering with the system, the Australian carbon price could collapse as it has in Europe with one consultancy, RepuTex, forecasting a possible fall to as low as $1.50 a tonne, triggering a recovery in local coal-fired power generation.
Europe and Australia are not alone in struggling to manage energy policy in a world facing a glut of energy rather than the shortfall predicted by Peak Oil.
In the US coal is also making a comeback after last year’s demand crash caused by a collapse in the price of natural gas. This reflected that country’s shale-gas revolution, which encouraged power generators to switch from coal to gas.
Over the past few months, the price of gas has doubled from its low of less than $US2 per million British Thermal Units to more than $US4/mbtu, largely as a result of the recovery underway in that country’s economy – with low energy costs a contributing factor.
Railway cargoes are a clue to the return of coal in the US, with carloads of coal carried on the seven major rail systems up 22% in mid-April compared to the coal-car count at the end of 2012.
Without the same government interference in the power or carbon-emissions market US electricity generators are reacting purely to price signals, and right now coal is a clear winner compared to other fuel sources.
For Europe what’s happening in the US is compounding an already tricky situation, with major industries such as Dow Chemical shifting production capacity back to the US to capitalise on power prices which are up to 50% less than what’s being charged in Europe.
It was partly fear of losing more industry to the US that caused members of the European Parliament to vote down the plan to withdraw the 900 million carbon emission permits because it would make European electricity event more expensive as the US drives down its power prices.
Champions of renewable energy and opponents of coal are facing stiff headwinds in their crusade against a polluting fuel, and while it’s too early to say they’re losing the battle there is mounting evidence that industry and households prefer cheaper power (even if coal-fired) to high-cost but ethically-pure renewable power.
Asian customers for Australian coal do not appear to be even considering the moral dimension, with demand for steelmaking (metallurgical) and electricity generating (thermal) coal continuing to rise.
A healthy appetite
Yesterday, the chief executive of the small underground coal gasification developer, Cougar Energy, predicted a “healthy appetite” for Australian coal in Asia.
Rob Neill said he had received a strong response from potential Asian investors in Cougar’s planned metallurgical coal mine in Queensland’s Bowen Basin.
That view sits comfortably alongside Whitehaven Coal reporting record monthly rail shipments as it finalises construction of its new underground mine at Narrabri in NSW, despite (or perhaps because of) the thermal coal price sitting at a low $US87 a tonne making it an extremely competitive fuel.
Clouded as it is by market and government pressures, the outlook for coal as an investment is not as grim as it might have appeared last year when carbon emission prices appeared to be rising (but are now falling) and Australian exporters were being hit by the low coal price and high Australian dollar.
The dollar problem has started to ease thanks to yesterday’s interest rate cut, and could ease further if the Reserve Bank becomes fully engaged in the global currency war.
Coal demand, if not yet price, is reacting to Europe’s renewed appetite for coal as a low-cost power source, while the threat of US coal exports hitting world markets is easing as its power utilities switch back from gas to coal.
Forecasts for coal prices remain subdued. Commonwealth Bank, in an April 30 research report into Whitehaven Coal (which included a neutral rating) tipped thermal coal to trade around $US89 a tonne this year, rising next year to $US96/t, and $US99/t in 2015.
In an earlier report on BHP Billiton, CommBank tipped metallurgical coal to fall from $US183/t this year to $US169/t next year before rising to $US192/t in 2015.
Environmentally, coal might be public enemy No.1 but, in the real economy, it is reclaiming its status as the low-cost fuel of choice with government attempts to price it out of the market proving futile, so far.